Form 10-Q

10-Q 1 d10q.htm FORM 10-Q Form 10-Q

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

x	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2008

¨	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES AND EXCHANGE ACT OF 1934

Commission file number 000-12230

BAKBONE SOFTWARE INCORPORATED

(Exact name of Registrant as specified in its charter)


Canada		Not applicable
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)

9540 Towne Centre Drive, Suite 100 San Diego, California		92121
(Address of principal executive offices)		(Zip Code)

Registrant’s telephone number, including area code: (858) 450-9009

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ¨ No x

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):


Large accelerated filer ¨	Accelerated filer ¨	Non-accelerated filer ¨	Smaller reporting company x
		(Do not check if a smaller reporting company)

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x

As of January 23, 2009 there were approximately 64,632,793 shares of the registrant’s common stock outstanding.

BAKBONE SOFTWARE INCORORATED

FORM 10-Q

FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2008



PART I. FINANCIAL INFORMATION

Item 1.	Financial Statements	3

	Consolidated Balance Sheets as of June 30, 2008 (unaudited) and March 31, 2008	3

	Unaudited Consolidated Statements of Operations for the three months ended June 30, 2008 and 2007	4

	Unaudited Consolidated Statements of Cash Flows for the three months ended June 30, 2008 and 2007	5

	Notes to Consolidated Financial Statements (unaudited)	6

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	11

Item 3.	Quantitative and Qualitative Disclosures about Market Risk	21

Item 4.	Controls and Procedures	22

PART II. OTHER INFORMATION

Item 1.	Legal Proceedings	23

Item 1A.	Risk Factors	23

Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	31

Item 3.	Defaults Upon Senior Securities	32

Item 4.	Submission of Matters to a Vote of Security Holders	32

Item 5.	Other Information	32

Item 6.	Exhibits	32

	Signatures

	Exhibit 31.1

	Exhibit 31.2

	Exhibit 32.1

	Exhibit 32.2

PART I – FINANCIAL INFORMATION

Item 1.

Financial Statements

BAKBONE SOFTWARE INCORPORATED

CONSOLIDATED BALANCE SHEETS

(in thousands, except share data)


	June 30, 2008			March 31, 2008
	(Unaudited)
ASSETS
Current assets:
Cash and cash equivalents	$	9,596		$	9,496
Restricted cash		371			598
Accounts receivable, less allowances for doubtful accounts and sales returns of $169 at June 30, 2008 and $77 at March 31, 2008		9,891			12,449
Prepaid expenses		1,048			1,366
Other assets		319			414

Total current assets		21,225			24,323
Property and equipment, at cost		7,358			6,970
Less accumulated depreciation		(3,677	)		(3,412	)

Property and equipment, net		3,681			3,558
Intangible assets, net		1,083			1,177
Goodwill		7,615			7,615
Other assets		1,104			1,167

Total assets	$	34,708		$	37,840

LIABILITIES AND SHAREHOLDERS’ DEFICIT
Current liabilities:
Accounts payable	$	2,780		$	3,118
Accrued liabilities, including an allowance for sales returns of $48 at March 31, 2008		6,554			6,833
Current portion of deferred revenue		43,861			44,890

Total current liabilities		53,195			54,841
Deferred revenue, excluding current portion		51,260			51,810
Other liabilities		1,286			1,418

Total liabilities		105,741			108,069

Commitments and contingencies (Note 4)
Shareholders’ deficit:
Series A convertible preferred stock, no par value, 22,000,000 shares authorized at June 30, 2008 and March 31, 2008, 18,000,000 shares issued and outstanding at June 30, 2008 and March 31, 2008, liquidation preference of $26,704 and $26,388, respectively		11,160			11,160
Share capital, no par value, unlimited shares authorized, 64,632,793 and 64,542,358 shares issued and outstanding at June 30, 2008 and March 31, 2008, respectively		152,218			152,047
Accumulated deficit		(229,661	)		(226,509	)
Accumulated other comprehensive loss		(4,750	)		(6,927	)

Total shareholders’ deficit		(71,033	)		(70,229	)

Total liabilities and shareholders’ deficit	$	34,708		$	37,840

See accompanying notes to consolidated financial statements.

BAKBONE SOFTWARE INCORPORATED

CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands, except per share and share data)

(Unaudited)


	Three months ended June 30,
	2008			2007
Revenues, net	$	13,671		$	11,575
Cost of revenues		1,759			1,418

Gross profit		11,912			10,157

Operating expenses:
Sales and marketing		7,520			8,014
Research and development		3,037			2,511
General and administrative		3,925			4,218

Total operating expenses		14,482			14,743

Operating loss		(2,570	)		(4,586	)
Interest income		37			33
Interest expense		(37	)		(56	)
Realized gain on sale of marketable securities		—			189
Foreign exchange loss, net		(499	)		(557	)
Other expense, net		(3	)		(5	)

Loss before income taxes		(3,072	)		(4,982	)
Provision for income taxes		80			33

Net loss	$	(3,152	)	$	(5,015	)

Net loss per common share:
Basic and diluted	$	(0.05	)	$	(0.08	)

Weighted-average common shares outstanding:
Basic and diluted		64,605,961			64,542,358

See accompanying notes to consolidated financial statements.

BAKBONE SOFTWARE INCORPORATED

CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

(Unaudited)


	Three months ended June 30,
	2008			2007
Cash flows from operating activities:
Net loss	$	(3,152	)	$	(5,015	)
Adjustments to reconcile net loss to net cash provided by (used in) operating activities:
Depreciation and amortization		400			424
Loss on disposal of capital assets		11			1
Stock-based compensation		107			1,460
Operating expenses funded by financing arrangement		—			88
Gain on sale of available-for-sale securities		—			(189	)
Changes in assets and liabilities:
Accounts receivable		2,950			998
Prepaid expenses and other assets		898			756
Accounts payable		(21	)		(277	)
Accrued and other liabilities		(16	)		(432	)
Deferred revenue		(178	)		902

Net cash provided by (used in) operating activities		999			(1,284	)

Cash flows from investing activities:
Proceeds from sale of available-for-sale securities		—			207
Capital expenditures		(634	)		(194	)
Release of restricted cash		227			—

Net cash (used in) provided by investing activities		(407	)		13

Cash flows from financing activities:
Payments on capital lease obligations		(94	)		(91	)
Payments on long term debt obligations		(112	)		(109	)

Net cash used in financing activities		(206	)		(200	)

Effect of exchange rate changes on cash and cash equivalents		(286	)		(161	)

Net increase (decrease) in cash and cash equivalents		100			(1,632	)
Cash and cash equivalents, beginning of period		9,496			10,679

Cash and cash equivalents, end of period	$	9,596		$	9,047

Cash paid during the period for:
Interest	$	24		$	35
Income taxes	$	65		$	39
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Equipment acquired under capital leases	$	90		$	4
Capital expenditures included in accounts payable at end of period	$	79		$	43

See accompanying notes to consolidated financial statements.

BAKBONE SOFTWARE INCORPORATED

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

1.	The Company

BakBone Software Incorporated (“BakBone” or the “Company”), a Canadian federal company, provides software-based, data protection solutions that enable the backup, recovery and overall availability of business data and information. The Company primarily markets and sells software through an indirect sales channel comprised of storage-focused resellers, distributors and original equipment manufacturers (“OEMs”). The Company’s end users consist of domestic and international businesses and organizations of all sizes and industries, as well as foreign and domestic government agencies and educational institutions. BakBone operates in a single business segment, which is the NetVault product line, and has operations in three primary geographic regions: North America; Asia-Pacific; and Europe, Middle East and Africa, or EMEA, through three of its respective wholly-owned subsidiaries: BakBone Software, Inc., BakBone Software KK, and BakBone Software Ltd.

2.	Basis of Presentation

The accompanying consolidated balance sheets at June 30, 2008, the consolidated statements of operations for the three months ended June 30, 2008 and 2007, and the consolidated statements of cash flows for the three months ended June 30, 2008 and 2007, have been prepared by the Company and have not been audited. These financial statements should be read in conjunction with the financial statements and notes thereto for the fiscal year ended March 31, 2008 included in the Company’s Annual Report on Form 10-K.

The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) for interim financial information, in accordance with the instructions to Form 10-Q and the guidance in Article 10 of Regulation S-X. Accordingly, since they are interim financial statements, the accompanying unaudited consolidated financial statements do not include all of the information and disclosures required by U.S. GAAP for complete financial statements. The accompanying unaudited consolidated financial statements reflect all adjustments, consisting of normal recurring adjustments, that are, in the opinion of management, necessary for a fair statement of the results of operations for the interim periods presented. Interim operating results are not necessarily indicative of operating results for the full year.

The accompanying consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries. All intercompany accounts and transactions have been eliminated in consolidation. The Company operates and reports using a fiscal year end of March 31.

3.	Significant Accounting Policies

Use of Estimates

The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingencies at the date of the financial statements as well as the reported amounts of revenues and expenses during the reporting period. Estimates have been prepared on the basis of the most current and best available information and actual results could differ from those estimates.

Revenue Recognition

The Company recognizes software license revenue in accordance with American Institute of Certified Public Accountants, Statements of Position 97-2, Software Revenue Recognition. The Company derives revenues from licensing software and maintenance services as well as professional services from two distinct groups of customers: resellers and OEMs.

The Company licenses its software to its reseller customers under multiple-element arrangements involving a combination of software, post-contract support and/or professional services. Post-contract support includes rights to unspecified upgrades and enhancements and telephone support. Professional services include services related to implementation of the Company’s software as well as training. Software license arrangements with resellers include implicit platform transfer rights (“PTRs”), which allow end users to exchange an original product for a different product or to exchange an original product on one platform for the same product operating on a different platform. The new product and/or different platform is not specified in the arrangement nor is the period of time in which the customer has to exercise this right. As no contract period exists under these arrangements, software-related revenue is recognized ratably over the estimated economic useful life of the software product of four years.

The economic useful life of the software product is estimated to be four years based upon the Company’s version release and end of life data as well as Company practice with respect to supporting the product. The Company weighted the product useful life and its years of sustaining support following the end of life to determine the estimated economic useful life of the software product.

The Company commences recognizing revenue under these arrangements when all of the following are met:

•

Persuasive Evidence of an Arrangement Exists. It is the Company’s practice to require a purchase order from the reseller for arrangements involving resellers. For arrangements involving OEMs, the Company requires a contract signed by both the OEM partner and BakBone and a customer issued purchase order.

•

Delivery Has Occurred. The Company delivers software by both physical and electronic means. Both means of delivery transfer title and risk to the customer. Physical delivery terms are generally FOB shipping point. For electronic delivery of the software, delivery is complete when the customer has been provided electronic access to the software. The Company’s arrangements do not generally contain customer acceptance provisions.

•

The Vendor’s Fee is Fixed or Determinable. Fees are generally considered fixed and determinable when payment terms are within the Company’s standard credit terms, generally 30 to 60 days.

•

Collectibility is Probable. Customers must meet collectibility requirements pursuant to the Company’s credit policy. For contracts that do not meet the Company’s collectibility criteria, fees earned are deferred initially and recognized in accordance with its revenue policy once payment is received from the customer.

In Asia-Pacific, the Company sells certain licenses to value-added reseller (“VAR”) partners who hold the licenses in inventory. For these transactions, the Company commences the ratable recognition of revenue only after it has received evidence of product sell-through from the applicable VAR partner.

Maintenance renewal fees are recognized ratably over the arrangement period, which is typically one year. Professional services may also be sold separately and all fees generated from stand-alone sales of professional services are recognized when the service is complete.

The Company has multiple-element arrangements with OEM customers and one large direct customer under which, in addition to providing software licenses and maintenance services, the Company has a commitment to provide unspecified future software products. As vendor specific objective evidence of fair value cannot be determined for the unspecified future software products, all sales amounts procured under these arrangements are deferred and recognized ratably over the arrangement period.

The Company’s resellers are not contractually permitted to return products, but the Company accepts returns under certain circumstances. One of the Company’s OEM customers has a specific right of return, whereby the customer is contractually permitted to return products. The Company accounts for potential returns from its resellers and this OEM customer in accordance with SFAS No. 48, Revenue Recognition When Right of Return Exists (“SFAS 48”). The Company uses historical returns experience with these customers to determine potential returns and to establish the appropriate sales returns allowance.

Sales incentives or other consideration given by the Company to its customers are accounted for in accordance with EITF Issue 01-9, Accounting for Consideration Given by a Vendor to a Customer (Including a Reseller of the Vendor’s Products) (“EITF 01-9”). In accordance with EITF 01-9, sales incentives and other consideration that are considered adjustments of the selling price of the Company’s products, such as rebates, are generally reflected as reductions to revenue. In the three months ended June 30, 2007, the Company issued warrant consideration to a reseller of its products, a portion of which vested during the same period. In accordance with EITF 01-9, the fair value of the vested warrants was classified as an expense based on the specific facts and circumstances. The fair value of the vested warrant is included in sales and marketing expense in the consolidated statement of operations for the three months ended June 30, 2007.

Deferred Revenue

Deferred revenue represents software license, maintenance contract and professional services bookings on sales through both the VAR and OEM channels, net of recognized revenue amounts. A majority of the Company’s sales transactions are deferred and recognized over the applicable period, generally three to five years. The following table provides detail of the change in deferred revenue balances for the three months ended June 30, 2008 (in thousands):


Deferred revenue balance at March 31, 2008	$	96,700
Current period bookings deferred into subsequent periods		13,488
Current period revenue from prior period bookings		(12,806	)
Foreign exchange impact		(2,261	)

Deferred revenue balance at June 30, 2008	$	95,121

Comprehensive Loss

Comprehensive loss is the total of net loss and all other non-owner changes in shareholders’ deficit. The Company’s comprehensive loss combines net loss, unrealized gain on available-for-sale securities and foreign currency translation adjustments. Comprehensive loss for the three months ended June 30, 2008 and 2007 is as follows:


	Three months ended June 30,
	2008			2007
Net loss	$	(3,152	)	$	(5,015	)
Unrealized gain on available-for-sale securities		—			327
Reclassification of unrealized gain on sale of available-for-sale securities		—			(189	)
Foreign currency translation adjustment		2,177			1,076

Total comprehensive loss	$	(975	)	$	(3,801	)

The foreign currency translation adjustment each period represents the effect of the translation of assets and liabilities that are denominated in the functional currencies of foreign subsidiaries to the Company’s reporting currency. During the three months ended June 30, 2008, the current period increase of $2.2 million related primarily to the translation of the Company’s deferred revenue balances and was primarily the result of the strengthening of the U.S. dollar against the Japanese Yen.

Net Loss Per Share

In accordance with SFAS No. 128, Earnings Per Share (“SFAS 128”), basic net loss per common share is computed by dividing the net loss attributable to common shareholders for the period by the weighted average number of common shares outstanding during the period. Diluted net loss per common share is computed by dividing the net loss attributable to common shareholders for the period by the weighted average number of common shares and potential common shares outstanding during the period, except where the effect of including potential common shares would be antidilutive.

The following table summarizes potential common shares that are not included in the denominator used in the diluted net loss per share calculation because to do so would be anti-dilutive (in thousands):


	Three months ended June 30,
	2008	2007
Stock options	5,738	5,739
Restricted stock units	186	300
Warrants	4,505	3,581
Series A convertible preferred stock	18,000	18,000

Total weighted average anti-dilutive instruments	28,429	27,620

Recent Accounting Pronouncements

In September 2006, the FASB issued SFAS No. 157, Fair Value Measurements (“SFAS 157”). This new standard provides guidance for using fair value to measure assets and liabilities and information about the extent to which companies’ measure assets and liabilities at fair value, the information used to measure fair value, and the effect of fair value measurements on earnings. This

framework is intended to provide increased consistency in how fair value determinations are made under various existing accounting standards which permit, or in some cases require, estimates of fair market value. SFAS 157 also expands financial statement disclosure requirements about a company’s use of fair value measurements, including the effect of such measures on earnings. The provisions of SFAS 157 are effective for financial statements issued for the Company’s fiscal 2009. In February 2008, the FASB issued FSP No. FAS 157-2, Effective Date of FASB Statement No. 157 (“FSP 157-2”), which amends SFAS 157 to delay the effective date of SFAS 157 for nonfinancial assets and nonfinancial liabilities, except for items that are recognized or disclosed at fair value in the financial statements on a recurring basis (that is, at least annually). For items within its scope, FSP 157-2 defers the effective date of SFAS 157 to the Company’s fiscal 2010. The Company adopted this standard for financial assets and liabilities in the current year without any material impact to its consolidated financial statements. The Company is currently evaluating the impact that SFAS 157-2 will have on its consolidated financial statements and disclosures when it is applied to non-financial assets and non-financial liabilities that are not measured at fair value on a recurring basis beginning in the first quarter of fiscal year 2010.

In December 2007, the FASB issued SFAS No. 141 (revised 2007), Business Combinations (“SFAS 141R”), which replaces FASB Statement No. 141, Business Combinations (“SFAS 141”). SFAS 141R expands the definition of a business combination and requires the fair value of the purchase price of an acquisition, including the issuance of equity securities, to be determined on the acquisition date. SFAS 141R also requires that all assets, liabilities, contingent considerations, and contingencies of an acquired business be recorded at fair value at the acquisition date. In addition, SFAS 141R requires that acquisition costs generally be expensed as incurred, restructuring costs generally be expensed in periods subsequent to the acquisition date and changes in accounting for deferred tax asset valuation allowances and acquired income tax uncertainties after the measurement period impact income tax expense. SFAS 141R is effective for all business combinations consummated on or after the beginning of the first annual reporting period beginning on or after December 15, 2008 (or fiscal 2010). SFAS 141R could have a material impact on any business combinations entered into in fiscal 2010 or future periods.

In December 2007, the FASB issued SFAS No. 160, Noncontrolling Interests in Consolidated Financial Statements—an amendment of ARB No. 51 (“SFAS 160”). SFAS 160 establishes accounting and reporting standards for ownership interests in subsidiaries held by parties other than the parent, the amount of consolidated net income attributable to the parent and to the noncontrolling interest, changes in a parent’s ownership interest and the valuation of retained noncontrolling equity investments when a subsidiary is deconsolidated. In addition, SFAS 160 provides reporting requirements that clearly identify and distinguish between the interests of the parent and the interests of the noncontrolling owners. SFAS 160 is effective for the first annual reporting period beginning on or after December 15, 2008 (or the Company’s fiscal year 2010). SFAS 160 could have a material impact on any noncontrolling interests transactions consummated in fiscal 2010 or future periods.

In April 2008, the FASB issued FSP FAS 142-3, Determination of the Useful Life of Intangible Assets (“FSP 142-3”). FSP 142-3 amends the factors that should be considered in developing renewal or extension assumptions used to determine the useful life of a recognized intangible asset under SFAS No. 142. This change is intended to improve the consistency between the useful life of a recognized intangible asset under SFAS 142 and the period of expected cash flows used to measure the fair value of the asset under SFAS 141R and U.S. GAAP. FSP 142-3 is effective for financial statements issued for fiscal years beginning after December 15, 2008, which will be the Company’s fiscal year 2010. The requirements for determining useful lives must be applied prospectively to intangible assets acquired after the effective date and the disclosure requirements must be applied prospectively to all intangible assets recognized as of, and subsequent to, the effective date. FSP 142-3 could have a material impact on the useful life determination of any intangible asset acquisitions completed in fiscal 2010 or future periods.

In May 2008, the FASB issued SFAS No. 162, The Hierarchy of Generally Accepted Accounting Principles (“SFAS No. 162”). This statement identifies the sources of accounting principles and framework for selecting the principles to be used in the preparation of financial statements of non-governmental entities that are presented in conformity with generally accepted accounting principles in the United States. SFAS No. 162 was effective November 15, 2008. The Company does not expect that the adoption of this pronouncement will have a material impact on its consolidated financial statements.

4.	Contingencies

In the normal course of business, the Company may be involved in various claims, negotiations and legal actions; however, as of June 30, 2008, the Company is not party to any litigation that is expected to have a material effect on the Company’s financial position, results of operations or cash flows.

5.	Shareholders’ Deficit

Amendment to Restricted Stock Unit Agreement

In April 2006, the Company granted 300,000 restricted stock units to an executive officer. The restricted stock units vest over a four year period, with 50% vesting on the second anniversary of the grant date and 25% vesting on each of the third and fourth anniversaries of the grant date. The restricted stock unit award contains a cash settlement feature which obligates the Company to settle the award in cash in the event that certain specified criteria are not met on the vest dates.

In April 2008, the Company entered into an amendment to the restricted stock unit award agreement. The amendment provides for the settlement of the first vesting tranche of the restricted stock unit award in a cash amount sufficient to satisfy the expected tax obligation of the grantee, with the residual value of the award to be settled in shares. Further, under the amendment, if the contingent cash-settlement conditions contained in the restricted stock unit award are not met on the vest dates of the second and third tranches of the award, these tranches will be settled in an amount of cash sufficient to satisfy the expected tax obligation of the grantee, with the residual value of the award to be settled in shares. Otherwise, the second and third tranches will be settled entirely in shares. The Company accounted for the amendment to the original award on the date of the modification by reclassifying the portion of the award that no longer contained a contingent cash-settlement feature from liability to equity.

During the three months ended June 30, 2008, 150,000 restricted stock units vested pursuant to the vesting conditions of the amended award. In connection with the vesting of the restricted stock units, the Company issued 90,435 shares. The remaining 59,565 restricted stock units were settled in cash pursuant to the contingent cash-settlement conditions of the amended award. A summary of the change in restricted stock unit awards during the three months ended June 30, 2008 is as follows:


	Number of shares
Unvested at March 31, 2008	300,000
Awarded	—
Vested	(150,000	)
Forfeited	—

Unvested at June 30, 2008	150,000

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

Special Note About Forward-Looking Statements

This Quarterly Report, including “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” contains forward-looking statements regarding future events and our future results that are subject to the safe harbors created under the Securities Act of 1933 and the Securities Exchange Act of 1934. These statements are based on current expectations, estimates, forecasts, and projections about the industries in which we operate and the beliefs and assumptions of our management. We use words such as “anticipate,” “believe,” “continue,” “could,” “estimate,” “expect,” “goal,” “intend,” “may,” “plan,” “project,” “seek,” “should,” “target,” “will,” “would,” variations of such words, and similar expressions to identify forward-looking statements. In addition, statements that refer to projections of earnings, revenue, costs or other financial items; anticipated growth and trends in our business or key markets; future growth and revenues from our products; anticipated performance of products or services; plans, objectives and strategies for future operations; and other characterizations of future events or circumstances, are forward-looking statements. Readers are cautioned that these forward-looking statements are only predictions and are subject to risks, uncertainties and assumptions that are difficult to predict. Therefore, actual results may differ materially and adversely from those expressed in any forward-looking statements.

The following discussion should be read in conjunction with our consolidated financial statements and related notes and other financial information appearing elsewhere in this Form 10-Q. Readers are also urged to carefully review and consider the various disclosures made by us which attempt to advise interested parties of the factors which affect our business, including, without limitation, the disclosures, made under the captions “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Risk Factors” and the audited consolidated financial statements and related notes included in our Form 10-K for the fiscal year ended March 31, 2008. Risk factors that could cause actual results to differ from those contained in the forward-looking statements include but are not limited to: the success of our efforts to become current in our reporting with the SEC and Canadian securities administrators; the deteriorating economic and market conditions that lead to reduced spending on information technology products; competition in our target markets; potential capital needs; management of future growth and expansion; the development, implementation and execution of our Integrated Data Protection strategic vision; risk of third-party claims of infringement; protection of proprietary information; customer acceptance of our existing and newly introduced products and fee structures; the success of our brand development efforts; risks associated with strategic alliances; reliance on distribution channels; product concentration; the need to develop new and enhanced products; potential product defects; our ability to hire and retain qualified employees and key management personnel; risks associated with changes in domestic and international market conditions and the entry into and development of international markets for our products; and other factors identified elsewhere in this Quarterly Report and in our most recent reports on Forms 10-K and 8-K. We undertake no obligation to revise or update any forward-looking statements for any reason.

Overview

We are a global provider of software-based, data protection solutions that enable the effective backup, recovery and overall availability of business critical data and information. Our NetVault portfolio of products allows organizations to efficiently and cost-effectively protect data within heterogeneous computing and storage environments. Our products are designed to be flexible and easy to install, use, maintain and support, while providing our end users with what we believe is a substantially lower overall total cost of ownership than competitive products. We have also designed our products to be modular and to work within an open standards environment, allowing the NetVault product portfolio to integrate easily with our end users’ information technology infrastructure and scales as our end users’ data protection requirements evolve. We believe the NetVault solutions are well positioned to satisfy the needs of organizations seeking affordable enterprise, multi-platform data protection and availability solutions.

We primarily market and sell the complete NetVault product portfolio through an indirect global sales channel comprised of storage-focused resellers, distributors (collectively referred to as “VARs”) and original equipment manufacturers, or OEMs. Our sales teams engage in the selling of solutions with end user customers and provide them with multiple channels to most efficiently facilitate purchase of the required solution. Our end users consist of domestic and international businesses and organizations of all sizes and across numerous industries, as well as foreign and domestic government agencies and educational institutions. We currently operate in a single business segment, which is the NetVault product line, and have operations in three primary geographic regions: North America, Asia-Pacific, and EMEA, through three of our respective wholly-owned subsidiaries: BakBone Software, Inc., BakBone Software KK, and BakBone Software Ltd.

The following table summarizes consolidated revenues and revenues of each region on an absolute dollar basis and as a percentage of total consolidated revenues (in thousands):


	Three months ended June 30,
	2008			2007
Consolidated revenues, net	$	13,671		$	11,575
North America revenues		5,228			4,862
As a percentage of consolidated revenues		38	%		42	%
Asia-Pacific revenues		4,698			3,414
As a percentage of consolidated revenues		34	%		29	%
EMEA revenues		3,745			3,299
As a percentage of consolidated revenues		28	%		29	%

In addition, we had consolidated deferred revenue balances as follows (in thousands):


	As of June 30, 2008		As of March 31, 2008
Consolidated deferred revenue	$	95,121	$	96,700

We generate revenues primarily through a combination of software licenses and related maintenance contracts. We generally offer non-exclusive, perpetual software licenses through our channel partners to end users and do not offer term-based software licenses. Maintenance contracts generally cover a period of one year, and after contract expiration, our customers have the right to purchase maintenance contract renewals, which generally cover a period of one year.

We license our software to customers through our channel partners in arrangements under which they purchase a combination of software, post-contract support and/or professional services, which we refer to as multiple-element arrangements. Post-contract support includes rights to unspecified upgrades and enhancements and telephone support. Professional services include services related to implementation of our software as well as training. While not provided for in our licensing arrangements, we have historically provided our end customers with platform transfer rights (“PTRs”), which allow the customer to exchange an original product for a different product or to exchange an original product operating on one platform for the same product operating on a different platform. Accordingly, for all multiple-element arrangements, we defer the arrangement fees and recognize the fees ratably over the estimated economic useful life of the software product, which has been determined to be four years. We also provide maintenance contract renewals and professional services on a separate, stand-alone basis. Under these arrangements, maintenance contract renewal fees are recognized ratably over the maintenance period, which is generally one year, and professional services fees are recognized at the time the service is rendered.

We have also entered into multiple-element arrangements with certain OEM customers under which, in addition to providing software licenses and maintenance services, we make a commitment to the customer to provide unspecified future software products. As vendor specific objective evidence (“VSOE”) of fair value cannot be determined for the unspecified future software products, all sales amounts procured under these arrangements are initially deferred and subsequently recognized ratably over the arrangement period.

Although generally our resellers are not permitted to return our products, one of our OEM customers has a contractually permitted right of return. Also, under certain other limited circumstances we do accept returns. We use historical returns experience with these customers to determine potential returns and to establish the appropriate sales returns allowance.

Portions of our Asia-Pacific revenues are currently denominated in U.S. dollars. As a result, an increase in the value of the U.S. dollar relative to foreign currencies could make our product more expensive and, therefore, potentially less competitive in those markets. A majority of our international business is presently conducted in currencies other than the U.S. dollar. Foreign currency transaction gains and losses arising from normal business operations are credited to or charged against earnings in the period

incurred. As a result, fluctuations in the value of the currencies in which we conduct our business relative to the U.S. dollar will cause currency transaction gains and losses. Due to the volatility of currency exchange rates, among other factors, we cannot predict the effect of exchange rate fluctuations upon future operating results and we could experience currency losses in the future. We have not previously undertaken hedging transactions to cover currency exposure, and we do not currently intend to engage in hedging activities.

Cost of revenues consists of the direct cost of providing customer support, including payroll and other benefits of staff working in our customer support departments, as well as associated costs of computer equipment, telephone and other general costs necessary to maintain support for our end users. Also included in cost of revenues are third party software license royalties and the direct costs of products delivered to customers.

Sales and marketing expenses consist primarily of employee payroll and other benefits, commissions, trade show costs, web advertising and travel costs for our worldwide sales and marketing staff. Commissions are part of our sales personnel compensation package, which is based on the procurement of sales orders and subsequent collection of customer receivables. As we expand our sales and marketing force, we expect sales and marketing expenses to increase.

Research and development expenses consist primarily of salary and related costs for our worldwide engineering staff. We have engineering personnel in our Poole, United Kingdom and San Diego, California offices who are responsible for the development effort of NetVault products and our application plug-in modules.

General and administrative expenses include salaries and benefits for our corporate personnel and other expenses, such as facilities costs and professional services.

As part of the process of preparing our consolidated financial statements, we are required to estimate our provision for income taxes in each of the tax jurisdictions in which we do business. This process involves estimating our actual current tax expense in conjunction with the evaluation and measurement of temporary differences resulting from differing treatment of certain items for tax and financial accounting purposes. These temporary differences result in the establishment of deferred tax assets and liabilities, which are presented on a net basis. We assess on a periodic basis the probability that our net deferred tax assets will be recovered. In performing this assessment, we consider whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which the temporary differences become deductible. We consider the scheduled reversal of deferred tax liabilities, projected future taxable income, our ability to deduct tax loss carryforwards against future taxable income, and tax planning strategies among the various tax jurisdictions that we do business in when making this assessment. To the extent we believe that recovery is not probable, a valuation allowance is established to reduce deferred tax assets to the amount expected to be realized.

Our provision for income taxes is comprised of federal, state, and foreign income taxes. Our federal, state and foreign income taxes relate to income generated in the various tax jurisdictions in which we do business. We also recognize estimated tax liabilities for any tax positions we have taken which are not more likely than not to be sustained upon examination by the applicable taxing authority. The final payment of the amounts related to these uncertainties may ultimately prove to be less than or greater than our estimate. If this occurs we would record either a benefit or a charge to our income tax provision.

Application of Critical Accounting Policies

The preparation of our financial statements in accordance with accounting principles generally accepted in the United States (“U.S. GAAP”) requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an on-going basis, we evaluate our estimates, including those related to revenue recognition, valuation allowance for deferred tax assets, valuation of goodwill and stock-based compensation expense. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

We believe there are several accounting policies that are critical to understanding our historical and future performance. These policies affect the reported amounts of revenue and other significant areas that involve management’s judgments and estimates. These significant accounting policies are:

•

revenue recognition;

•

valuation allowance for deferred tax assets;

•

valuation of goodwill; and

•

stock-based compensation expense.

These policies, and our procedures related to these policies, are described below.

Revenue Recognition

We recognize software license revenue in accordance with American Institute of Certified Public Accountants, Statements of Position 97-2, Software Revenue Recognition (“SOP 97-2”), and 98-9, Modification of SOP No. 97-2, Software Revenue Recognition, with Respect to Certain Transactions (“SOP 98-9”). Our revenue recognition policy is based on complex rules that require us to make significant judgments and estimates. We must determine which portions of our revenue are recognized currently and which portions must be deferred and recognized in future periods. We derive revenues from licensing software and maintenance services, as well as professional services from two distinct groups of customers: resellers and OEMs.

We license our software to our reseller customers under multiple-element arrangements involving a combination of software, post-contract support and/or professional services. Post-contract support includes rights to unspecified upgrades and enhancements and telephone support. Professional services include services related to implementation of our software as well as training. Our software license arrangements with resellers include implicit unspecified platform transform rights (“PTRs”), which allow end users to exchange an original product for a different product or to exchange an original product on one platform for the same product operating on a different platform. The new product and/or different platform is not specified in the arrangement nor is the period of time in which the customer has to exercise this right. As no contract period exists under these sales arrangements, all software-related revenue is recognized ratably over the estimated economic useful life of the software product. The estimated economic useful life of the software product is four years. This useful life was established by reviewing general industry-wide technology life cycle periods, our version release and end of life data, as well as published company policies with respect to sustaining support.

We commence recognizing revenue under these arrangements when all of the following are met:

•

Persuasive Evidence of an Arrangement Exists. It is our practice to require a purchase order signed by the reseller customer for arrangements involving resellers. For arrangements involving OEMs, we require a contract signed by both the OEM customer and BakBone and a customer issued purchase order.

•

Delivery Has Occurred. We deliver software by both physical and electronic means. Both means of delivery transfer title and risk to the customer. Physical delivery terms are generally FOB shipping point. For electronic delivery of the software, delivery is complete when the customer has been provided electronic access to the software. Our arrangements do not generally contain customer acceptance provisions.

•

The Vendor’s Fee is Fixed or Determinable. Fees are generally considered fixed and determinable when payment terms are within our standard credit terms, generally 30 to 60 days.

•

Collectibility is Probable. Customers must meet collectibility requirements pursuant to our credit policy. For contracts that do not meet our collectibility criteria, fees earned are deferred initially and recognized in accordance with our revenue policy once payment is received from the customer.

In Asia-Pacific, we sell licenses to certain reseller partners who hold the licenses in inventory. For these sales, we commence the recognition of revenue only after we have received evidence of product sell-through from the applicable reseller partner.

Maintenance renewals are sold separately and we recognize maintenance renewal fees ratably over the arrangement period, which is typically one year. Professional services may also be sold separately and all fees generated from stand-alone sales of professional services are recognized when the service is completed.

We have also entered into multiple-element arrangements with OEM customers and one large direct customer under which, in addition to providing software licenses and maintenance services, we make a commitment to the customer to provide unspecified future software products. As VSOE of fair value cannot be determined for the unspecified future software products, all sales amounts procured under these arrangements are initially deferred and subsequently recognized ratably over the arrangement period.

Our resellers are not contractually permitted to return our product, but we accept returns under certain circumstances. One of our OEM customers has a specific right of return, whereby the customer is contractually permitted to return products. We account for potential returns from our resellers and this OEM customer in accordance with SFAS 48. We use historical returns experience with these customers to determine potential returns and to establish the appropriate sales returns allowance.

Valuation Allowance for Deferred Tax Assets

In preparing our consolidated financial statements, we estimate our income tax liability in each of the jurisdictions in which we operate by estimating our actual current tax exposure together with assessing temporary differences resulting from differing treatment of items for tax and financial statement purposes. These differences result in deferred tax assets and liabilities. Significant management judgment is required in assessing the realizability of our deferred tax assets. In performing this assessment, we consider whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income in each tax jurisdiction during the periods in which those temporary differences become deductible. We consider the scheduled reversal of deferred tax liabilities, projected future taxable income, and tax planning strategies in making this assessment. In the event that actual results differ from our estimates or we adjust our estimates in future periods, we may need to reduce our valuation allowance, which could materially impact our financial position and results of operations.

Valuation of Goodwill

We have recorded goodwill in connection with the acquisitions we have completed in prior periods. In accordance with the provisions of SFAS No. 142, Goodwill and Other Intangible Assets (“SFAS 142”), we review our goodwill for impairment as of April 1^st of each fiscal year or when an event or a change in facts and circumstances indicates the fair value of a reporting unit may be below its carrying amount. Significant management judgment is required in assessing the impairment of our goodwill. For segment reporting, we report our results of operations based on a single business segment which consists of our NetVault product line. SFAS 142 defines a reporting unit as an operating segment, or one unit below. For purposes of our annual goodwill impairment analysis, we divide our operating segment into reporting units, which are based on our geographic reporting entities: North America, Asia-Pacific, and EMEA. Events or changes in facts and circumstances that we consider as impairment indicators include but are not limited to the following:

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significant underperformance of our business relative to expected operating results;

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significant adverse economic and industry trends;

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significant decline in our market capitalization for an extended period of time relative to net book value; and

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expectations that a reporting unit will be sold or otherwise disposed.

The annual goodwill impairment test consists of a two-step process as follows:

Step 1. We compare the fair value of each reporting unit to its carrying amount, including the existing goodwill. The fair value of each reporting unit is determined using a discounted cash flow valuation analysis. The carrying value of each reporting unit is determined by specifically identifying and allocating the assets and liabilities of BakBone to each reporting unit based on headcount, relative revenues, or other methods as deemed appropriate by management. If the carrying amount of a reporting unit exceeds its fair value, an indication exists that the reporting unit’s goodwill may be impaired and we then perform the second step of the impairment test. If the fair value of a reporting unit exceeds its carrying amount, no further analysis is required.

Step 2. If further analysis is required, we compare the implied fair value of the reporting unit’s goodwill, determined by allocating the reporting unit’s fair value to all of its assets and its liabilities in a manner similar to a purchase price allocation, to its carrying amount. If the carrying amount of the reporting unit’s goodwill exceeds its fair value, an impairment loss will be recognized in an amount equal to that excess.

Stock-Based Compensation Expense

Under the provisions of SFAS No. 123(R), Share-Based Payment (“SFAS 123(R)”), stock-based compensation cost is estimated at the grant date based upon the fair-value of the award and is recognized as expense using the straight-line amortization method over the requisite service period of the award, which is normally the vesting period. For awards containing liability features, SFAS 123(R) requires that these awards be remeasured at each reporting date to fair-value. We estimate the fair value of stock options and warrants

issued to a reseller using the Black-Scholes option pricing model, which requires the input of certain highly subjective assumptions, including expected stock price volatility, expected term and expected forfeiture rates. A small change in the estimates used can result in a relatively large change in the estimated fair-value. We established the assumption for expected stock price volatility based on our historical stock price volatility. The expected term assumption for stock options was developed based on historical experience and projected exercise behavior, while the expected term assumption for the warrant issued to a reseller was based upon the contractual term of the warrant. We estimate forward-looking forfeiture rates based upon our historical forfeiture experience.

For a performance-based stock award, the expense is dependent on the probability of the performance measure being achieved. We utilize forecasts of future performance to assess these probabilities and this assessment requires considerable judgment.

In December 2004, our common shares were subject to cease trade orders in the Canadian jurisdictions of Alberta, Ontario and British Columbia due to delays in the filing of our financial statements. As a result of these cease trade orders, our Board of Directors has prohibited equity award holders from exercising their awards. Consequently, employees who have left the Company since December 2004 have been prohibited from exercising stock options and non-employees have been prohibited from exercising equity instruments. Therefore, we have entered into exercise extension agreements with certain terminating employees and certain non-employees, whereby the exercise periods of equity awards were extended to a predetermined number of days post-resumption of trading of our stock on an established exchange. Incremental stock-based compensation expense associated with the modifications was calculated using the Black-Scholes option pricing model, as the difference between the pre-modification and post-modification fair values of the equity instruments. These calculations involved the use of significant management judgments, as described above. Compensation expense was recorded in the period of modification for any value measured on the modification date.

Results of Operations

Comparison of Results for the Three Months Ended June 30, 2008 and 2007.

Revenues

We define bookings as the gross dollars invoiced through the sale of software licenses, maintenance contracts and professional services. We utilize bookings information as an operations measure, but it is not intended to replace U.S. GAAP accounting. Under the ratable revenue recognition method, license bookings are recognized as revenue over the appropriate period (generally three to five years). In general, variations in revenues period-over-period are affected by the amortization of current and prior period license bookings. Accordingly, we believe that trends in current and historical bookings are key factors in analyzing our operating results.

On a worldwide basis, we sell our NetVault products through two different sales channels: value-added resellers (“VAR”) and original equipment manufacturers and direct customers (“OEM”). VAR revenues are sourced from the sale of software licenses, related maintenance contracts and professional services through the reseller channel. Software licenses sold through the reseller channel do not generally involve customer-specific customization. OEM revenues are sourced from the sale of software licenses, related maintenance contracts and professional services sold through our OEM partners and to direct customers. Software licenses sold through the OEM channel generally involve customer-specific customization and are governed by specifically-negotiated contracts.

The following summarizes consolidated revenues and their percentage changes over the same period of the prior year (dollars in thousands):


	Three months ended June 30,
	2008			2007
Consolidated revenues, net	$	13,671		$	11,575
Increase over same period of prior year		18	%
VAR revenues, net	$	11,327		$	9,256
Increase over same period of prior year		22	%
OEM revenues, net	$	2,344		$	2,319
Increase over same period of prior year		1	%

VAR revenues. The following table summarizes VAR revenues by geographic region and their percentage changes over the same period of the prior year (dollars in thousands):


	Three months ended June 30,
	2008			2007
North America	$	3,686		$	3,287
Increase over same period of prior year		12	%
Asia-Pacific	$	4,304		$	2,982
Increase over same period of prior year		44	%
EMEA	$	3,337		$	2,987
Increase over same period of prior year		12	%
Consolidated	$	11,327		$	9,256
Increase over same period of prior year		22	%

In North America, VAR revenues increased by $0.4 million during the three months ended June 30, 2008 as compared to the three months ended June 30, 2007. The increase in revenues was primarily due to increased license and maintenance bookings in prior periods and increased maintenance bookings in the current period. License bookings were relatively flat period-over-period.

In Asia-Pacific, VAR revenues increased $1.3 million during the three months ended June 30, 2008 as compared to the three months ended June 30, 2007. The increase in revenues was due to increased license and maintenance bookings in both prior and current periods. The increase in bookings was primarily due to increased market penetration in Japan, China and Korea.

In EMEA, VAR revenues increased $0.4 million during the three months ended June 30, 2008 as compared to the three months ended June 30, 2007. The increase in revenues was due to increased license and maintenance bookings in both prior and current periods.

OEM revenues. The following table summarizes OEM revenues by geographic region and their percentage changes over the same period of the prior year (dollars in thousands):


	Three months ended June 30,
	2008			2007
North America	$	1,542		$	1,575
(Decrease) over same period of prior year		(2	%)
Asia-Pacific	$	394		$	432
(Decrease) over same period of prior year		(9	%)
EMEA	$	408		$	312
Increase over same period of prior year		31	%
Consolidated	$	2,344		$	2,319
Increase over same period of prior year		1	%

OEM revenues in North America and Asia-Pacific decreased primarily due to a decrease in current and prior period bookings from one of our OEM customers. During fiscal 2003 and 2004 we had significant bookings related to this OEM customer, which were fully recognized as revenue prior to the first quarter of fiscal 2009. OEM revenue in EMEA increased as a result of an increase in current and prior period bookings, primarily from one of our OEM customers.

Bookings. Included below is an informational table summarizing VAR and OEM bookings by geographic region, as well as the percentage changes over the same period of the prior year (dollars in thousands):


	Three months ended June 30,
	2008			2007
North America	$	4,940		$	5,762
(Decrease) over same period of prior year		(14	%)
Asia-Pacific	$	4,819		$	3,574
Increase over same period of prior year		35	%
EMEA	$	4,594		$	3,737
Increase over same period of prior year		23	%
Consolidated	$	14,353		$	13,073
Increase over same period of prior year		10	%

Cost of revenues

Cost of revenues for the three months ended June 30, 2008 and 2007 totaled $1.8 million and $1.4 million, respectively. The increase in cost of revenues during the three months ended June 30, 2008 was due primarily to increased headcount and third-party professional service expenses.

Sales and marketing expenses

Sales and marketing expenses decreased $0.5 million, or 6%, to $7.5 million for the three months ended June 30, 2008, from $8.0 million for the three months ended June 30, 2007. During the three months ended June 30, 2007, we recorded stock-based compensation expense of $1.3 million related to a one-time charge for a warrant that was issued to a reseller in connection with a development and licensing arrangement. During the three months ended June 30, 2008 we experienced a $0.7 million increase in payroll expensed as a result of increased headcount and a $0.1 million increase in marketing program activities, which partially offset the decrease in stock-based compensation expense.

Research and development expenses

Research and development expenses increased $0.5 million, or 21% to $3.0 million for the three months ended June 30, 2008, from $2.5 million for the three months ended June 30, 2007. The increase was primarily attributable to a $0.5 million increase in payroll expenses as a result of increased headcount.

General and administrative expenses

General and administrative expenses decreased $0.3 million, or 7%, to $3.9 million for the three months ended June 30, 2008, from $4.2 million for the three months ended June 30, 2007. The decrease was primarily attributable to a $0.2 million decrease in accounting and professional services fees and a $0.1 million decrease in payroll related expenses. During both the three months ended June 30, 2008 and 2007 we incurred significant accounting and professional fees related to the restatement of our financial statements and the completion of our fiscal 2006 Annual Report.

Realized gain on sale of available-for-sale securities

During the three months ended June 30, 2007, we sold marketable securities which were classified as available-for-sale investments, generating a realized gain of $0.2 million.

Foreign exchange (loss) gain, net

During the three months ended June 30, 2008 and 2007, we recorded net foreign exchange losses of $0.5 million and $0.6 million, respectively, related to foreign exchange rate changes that impacted or are expected to impact cash flows. During the three months ended June 30, 2008 and 2007, we recorded significant foreign exchange losses, primarily related to the impact of the weakening of the Japanese Yen against the U.S. dollar and the British pound on intercompany balances.

Provision for income taxes

During the three months ended June 30, 2008 and 2007, we recorded provisions for income taxes of $80,000 and $33,000, respectively. During both periods we recorded tax expense related to income generated in certain tax jurisdictions in which we do business. The increase in the provision for income tax during the three months ended June 30, 2008 was due primarily to the growth of our business in the EMEA and Asia-Pacific regions, where an increase in sales activity lead to income tax obligations in certain jurisdictions.

We have incurred consolidated pre-tax losses during the three month periods ended June 30, 2008 and 2007, and have incurred operating losses in all periods prior to fiscal 2008. Management has determined that it is more likely than not that a tax benefit from such losses will not be realized. Accordingly, we did not record a benefit for income taxes during these periods.

Liquidity and Capital Resources

As of June 30, 2008, we had $9.6 million of cash and cash equivalents and $32.0 million in negative working capital, or $11.9 million in positive working capital after excluding the current portion of deferred revenue, as compared to $9.5 million of cash and cash equivalents and $30.5 million in negative working capital, or $14.4 million in positive working capital after excluding the current portion of deferred revenue, as of March 31, 2008. Working capital, defined as current assets minus current liabilities, is intended to measure our short-term liquidity, or our ability to pay off short-term liabilities with current assets. Because short-term deferred revenue does not require the future use of current assets, management has excluded the current portion of deferred revenue from the calculation of working capital as an indicator of short-term liquidity. Our cash, combined with our cash flow from operating activities, have been our principal sources of liquidity.

Operating Activities

We generate cash from operations primarily from cash collected on software license and software maintenance contract sales. Net cash provided by operating activities was $1.0 million during the three months ended June 30, 2008, compared to net cash used in operating activities of $1.3 million for the three months ended June 30, 2007. Net cash provided by operating activities during the three months ended June 30, 2008, was the result of a decrease in net loss as well as an increase in cash collections. During fiscal 2008, we experienced a higher percentage of bookings during the fourth quarter, which were subsequently collected during the three months ended June 30, 2008.

Investing Activities

Net cash used in investing activities was $0.4 million for the three months ended June 30, 2008, compared to net cash provided by investing activities of $13,000 for the three months ended June 30, 2007. Capital expenditures were $0.6 million during the three months ended June 30, 2008 compared to $0.2 million during the three months ended June 30, 2007. During the three months ended June 30, 2008, $0.2 million of our restricted cash balance was released from the related pledged deposit account. During the three months ended June 30, 2007, we received cash of $0.2 million upon the sale of available-for-sale securities

Financing Activities

During the three months ended June 30, 2008 and 2007, net cash used in financing activities of $0.2 million consisted of payments on capital lease and long term debt obligations.

Factors That May Affect Future Financial Condition and Liquidity

Currently our cash commitments include normal recurring trade payables, expense accruals, minimum royalty obligations, debt and operating and capital leases, all of which are currently expected to be funded through existing working capital. Aside from these recurring operating expenses, we expect to incur approximately $0.7 million in capital expenditures through the remainder of fiscal 2009.

During the first two quarters of fiscal 2009, we have experienced a decrease in bookings as a result of the deteriorating economic and industry conditions as well as other financial and business factors, many of which are beyond our control. As a result, we have taken measures to reduce our operating costs. We believe that our current cash and cash equivalents will be sufficient to meet our working capital and capital expenditure requirements for at least the next 12 months from the date of the filing of this Quarterly Report. We believe that we will have sufficient liquidity to fund our business and meet our contractual obligations over a period beyond the next 12 months. However, we may be required to obtain additional financing in order to fund our continued operations. Due to the tightening of the credit markets, general economic conditions, our SEC filing delinquencies and other economic and business factors, such financing may not be available to us on acceptable terms or at all.

Off-Balance Sheet Arrangements

At June 30, 2008, we did not have any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance, special purpose or variable interest entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes. In addition, we did not engage in trading activities involving non-exchange traded contracts. As a result, we are not exposed to any financing, liquidity, market or credit risk that could arise if we had engaged in such relationships. We do not have relationships and transactions with persons or entities that derive benefits from their non-independent relationship with us or our related parties except as disclosed elsewhere in this Quarterly Report and in our most recent Annual Report on Form 10-K .

Recent Accounting Pronouncements

framework is intended to provide increased consistency in how fair value determinations are made under various existing accounting standards which permit, or in some cases require, estimates of fair market value. SFAS 157 also expands financial statement disclosure requirements about a company’s use of fair value measurements, including the effect of such measures on earnings. The provisions of SFAS 157 are effective for financial statements issued for the Company’s fiscal 2009. In February 2008, the FASB issued FSP FAS No. 157-2, Effective Date of FASB Statement No. 157 (“FSP 157-2”), which amends SFAS 157 to delay the effective date of SFAS 157 for nonfinancial assets and nonfinancial liabilities, except for items that are recognized or disclosed at fair value in the financial statements on a recurring basis (that is, at least annually). For items within its scope, FSP 157-2 defers the effective date of SFAS 157 to the Company’s fiscal 2010. The Company adopted this standard for financial assets and liabilities in the current year without any material impact to its consolidated financial statements. The Company is currently evaluating the impact that SFAS 157-2 will have on its consolidated financial statements and disclosures when it is applied to non-financial assets and non-financial liabilities that are not measured at fair value on a recurring basis beginning in the first quarter of fiscal year 2010.

In April 2008, the FASB issued FSP FAS 142-3, Determination of the Useful Life of Intangible Assets (“FSP 142-3”).

FSP 142-3 amends the factors that should be considered in developing renewal or extension assumptions used to determine the useful life of a recognized intangible asset under SFAS No. 142. This change is intended to improve the consistency between the useful life of a recognized intangible asset under SFAS 142 and the period of expected cash flows used to measure the fair value of the asset under SFAS 141R and U.S. GAAP. FSP 142-3 is effective for financial statements issued for fiscal years beginning after December 15, 2008, which will be the Company’s fiscal year 2010. The requirements for determining useful lives must be applied prospectively to intangible assets acquired after the effective date and the disclosure requirements must be applied prospectively to all intangible assets recognized as of, and subsequent to, the effective date. FSP 142-3 could have a material impact on the useful life determination of any intangible asset acquisitions completed in fiscal 2010 or future periods.

Item 3.

Quantitative and Qualitative Disclosures About Market Risk

Market risk represents the risk of loss that may impact our consolidated financial statements through adverse changes in financial market prices and rates. Our market risk exposure results primarily from fluctuations in foreign exchange rates. We do not have a significant market risk exposure to fluctuations in interest rates. International revenues represented 62% and 58% of our total

revenue for the three months ended June 30, 2008 and 2007, respectively. Portions of our Asia-Pacific revenues are currently denominated in U.S. dollars. As a result, an increase in the value of the U.S. dollar relative to foreign currencies could make our products more expensive and, therefore, potentially less competitive in those markets. A majority of our international business is presently conducted in currencies other than the U.S. dollar. Foreign currency transaction gains and losses arising from normal business operations are credited to or charged against earnings in the period incurred. As a result, fluctuations in the value of the currencies in which we conduct our business relative to the U.S. dollar will cause currency transaction gains and losses, which we have experienced in the past and continue to experience. Due to the substantial volatility of currency exchange rates, among other factors, we cannot predict the effect of exchange rate fluctuations upon future operating results. We could experience currency losses in the future. We have not previously undertaken hedging transactions to cover currency exposure.

Item 4.

Controls and Procedures

Evaluation of Disclosure Controls and Procedures

Our management, with the participation of our principal executive officer and principal financial officer, has evaluated the effectiveness of the our disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934, as of June 30, 2008. Based on that evaluation, our principal executive officer and principal financial officer concluded that, as of June 30, 2008, our disclosure controls and procedures were not effective because of the existence of material weaknesses, as described in Item 9A of our Annual Report on Form 10-K for the fiscal year ended March 31, 2008.

Changes in Internal Control over Financial Reporting

During fiscal 2007 and 2008 and the first quarter of fiscal 2009 we implemented several remediation measures in response to the material weaknesses described in Item 9A of our Annual Report on Form 10-K for the fiscal year ended March 31, 2008. These remediation measures are described in Item 9A of our Annual Report on Form 10-K for the fiscal year ended March 31, 2008. Due to the demands on our personnel related to the restatement process and the process of preparing our delinquent filings we have been unable to monitor these remediation measures to ensure that they were in place for a sufficient period of time and operating effectively. As of the date of this Quarterly Report, our remediation efforts continue related to each of the material weaknesses described in Item 9A of our Annual Report on Form 10-K for the fiscal year ended March 31, 2008. Significant resources continue to be required in order to fully address these material weaknesses. These material weaknesses will not be considered remediated until (1) the new processes are designed, appropriately controlled and implemented for a sufficient period of time and (2) we have sufficient evidence that the new processes and related controls are operating effectively.

Other than our remediation efforts described in Item 9A of our Annual Report on Form 10-K for the fiscal year ended March 31, 2008, there were no changes in our internal control over financial reporting that occurred during the first quarter of fiscal 2009 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

Because of its inherent limitations, internal control over financial reporting can provide only reasonable assurance of achieving the desired control objectives. As a result, any controls and procedures, no matter how well designed and operated, may not prevent or detect misstatements. Internal control over financial reporting also can be circumvented by collusion or improper management override of controls. Projections of any evaluation of control effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

PART II. OTHER INFORMATION

Item 1.

Legal Proceedings

We are involved in litigation and claims which arise from time to time in the normal course of business. In the opinion of management, any liability that may arise from such contingencies would not have a significant adverse effect on our consolidated financial position, results of operations or liquidity.

Item 1A.

Risk Factors

In addition to the other information set forth in this Quarterly Report, you should carefully consider the factors described below, which could materially affect our business, financial condition or future results. The risks described below are not the only risks facing the Company. Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial also may materially adversely affect our business, financial condition or future results.

Risks Related to Our SEC Filing Delinquencies

We have experienced, and may continue to experience, significant delays in the filing of our periodic reports with the SEC, which could have a material adverse effect on us.

We have experienced significant delays in filing our restated financial statements for fiscal 2004 and our financial statements for subsequent fiscal and interim periods to date, including the filing of this Quarterly Report for the period ended June 30, 2008. As a result of the delays in the filing of our periodic reports, we are subject to restrictions regarding the registration and issuance of our securities under U.S. federal, state, and Canadian securities laws. In addition, our ability to raise capital through debt and equity offerings is subject to our timely filing of periodic reports with the SEC, and our failure to file such reports on a timely basis effectively precludes us from raising capital through debt and equity offerings at this time. Continued delays in the filing of our periodic reports could also result in the SEC bringing an enforcement action against us. Further, our board of directors has determined not to issue equity awards to our employees or allow them to exercise their outstanding stock options. Delays could impact our ability to attract and retain employees. As a result, continued delays in the filing of our periodic reports with the SEC could adversely affect our business, results of operations, financial condition and cash flows.

We have identified material weaknesses in our internal control over financial reporting. If we fail to maintain an effective system of internal controls, we may not be able to accurately report our financial results or prevent fraud.

As discussed in Item 4 of Part I of this Quarterly Report and our Annual Report on Form 10-K for the fiscal year ended March 31, 2008, we have in the past identified material weaknesses in our internal controls and procedures, including in connection with the preparation of our financial statements for the period ended June 30, 2008. As a result, we have concluded that our disclosure controls and procedures were not effective as of the end of the period. We have implemented, and continue to implement, actions to address these weaknesses and to enhance the reliability and effectiveness of our internal controls and operations; however, the measures we have taken to date or any future measures may not remediate the material weaknesses discussed in this Quarterly Report as we expect.

In addition, we may not be able to maintain adequate controls over our financial processes and reporting in the future. We may discover additional material weaknesses, which we may not successfully remediate on a timely basis or at all. Any failure to remediate any material weaknesses identified by us or to implement required new or improved controls, or difficulties encountered in their implementation, could cause us to fail to meet our reporting obligations or result in material misstatements in our financial statements. Inadequate internal controls could also cause investors to lose confidence in our reported financial information, which could have a negative impact on the trading price of our stock. Moreover, we will be required to expend significant resources to design, implement and maintain a system of internal controls that is adequate to satisfy our reporting obligations as a public company. The costs associated with external consultants, as well as internal resources are significant and difficult to predict. As a result of these matters, our business, results of operations, financial condition and cash flows could be adversely affected.

The restatement of our historical financial statements and the independent investigation of our historical business practices surrounding revenue recognition have had, and could continue to have, an adverse effect on us.

In December 2004, we determined that our fiscal 2004 and prior period consolidated financial statements required restatement. From January 2005 through May 2006, we performed an extensive review of our business processes in connection with the restatement and in April 2006, our board of directors determined that an independent investigation with respect to our historical business practices surrounding revenue recognition should be directed by a special committee of the board of directors. The internal investigation concluded that we improperly recognized revenue in previous periods. The internal investigation was completed in September 2006. The independent investigation and restatement activities required us to expend significant management time and incur significant accounting and other expenses. We may in the future identify similar adjustments to prior period financial information. Adjustments that may be identified in the future could require further restatement of our financial statements. We could continue to incur additional costs in the future, which would adversely affect our business, results of operations, financial condition and cash flows.

Risks Related to Our Business and Industry

Our business could be harmed by the deteriorating general economic and market conditions that lead to reduced spending on information technology products.

As our business has expanded globally, we have become increasingly subject to the risks arising from adverse changes in domestic and global economic and political conditions. Economic growth in the United States and other countries has slowed during the second half of calendar year 2008, which has caused our customers to delay or reduce information technology purchases. If economic growth in the United States and other countries continues to slow, customers may continue to delay or further reduce information technology purchases. This could result in additional reductions in sales of our products, longer sales cycles, slower adoption of new technologies and increased price competition. In addition, weakness in the end user market could negatively affect the cash flow of our resellers and customers who could, in turn, delay paying their obligations to us, which would increase our credit risk exposure and cause a decrease in operating cash flows. Also, if our resellers experience excessive financial difficulties and/or insolvency, and we are unable to successfully transition end users to purchase our product from other resellers or directly from us, our sales could decline significantly. Any of these events would likely harm our business, results of operations and financial condition.

Our future capital needs are uncertain and our ability to access additional financing may be negatively impacted by the volatility and disruption of the capital and credit markets and adverse changes in the global economy.

Our capital requirements in the future will depend on many factors, including:

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acceptance of and demand for our NetVault products;

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the extent to which we invest in new technology and product development;

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the costs of developing new products, services or technologies;

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the number and timing of acquisitions and other strategic transactions; and

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the costs associated with the growth of our business, if any.

We intend to finance our operations and any growth of our business with existing cash and any cash flow from operations and we believe that our existing cash and anticipated cash flows from operations will be sufficient to meet our operating and capital requirements through at least the next 12 months from the date of the filing of this Annual Report. However, if adverse global economic conditions persist or worsen, we could experience a decrease in cash from operations attributable to reduced demand for our products and services and as a result, we may be required to obtain additional financing in order to fund our continued operations. Due to the existing uncertainty in the equity markets including debt, private equity and venture capital and traditional bank lending markets, as well as our failure to file our SEC reports on a timely basis, access to additional debt or equity may not be available to us on acceptable terms or at all. If we cannot raise funds on acceptable terms when necessary, we may not be able to develop or enhance our products and services, execute our business plan, take advantage of future opportunities, or respond to competitive pressures or unanticipated customer requirements. Furthermore, if we issue equity or convertible debt securities to raise additional funds, our existing shareholders may experience dilution, and the new equity or debt securities may have rights, preferences, and privileges senior to those of our existing shareholders. If we incur additional debt, it would increase our leverage relative to our earnings or to our equity capitalization.

We have incurred substantial net losses since inception, and we may not be able to achieve or maintain profitability or positive cash flow.

We have incurred operating and net losses since the inception of our operations in March 2000. Our net losses were $13.0 million and $7.7 million for the fiscal years ended March 31, 2007 and 2008, respectively. As of March 31, 2008, our accumulated deficit was $226.5 million. We may not able to achieve positive cash flow from operations in future periods. If we cannot achieve and sustain operating profitability, we may not be able to meet our working capital requirements, which would have a material adverse effect on our business, results of operations, financial condition and cash flows.

Our short operating history makes it difficult to evaluate our business and prospects.

We began our business with the acquisition of NetVault Holdings, Ltd. in March 2000, and expanded our product offering with the acquisition of Constant Data Inc. in November 2005. As a company with a relatively short operating history, we face risks and uncertainties frequently encountered by companies in new and rapidly evolving markets, including risks related to:

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the implementation and successful execution of our business strategy and our sales and marketing initiatives;

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our ability to successfully integrate newly acquired technologies;

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retention of current value-added resellers, distributors and OEMs and attraction of new value-added resellers, distributors and OEMs;

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our ability to respond effectively to competitive and technological developments related to our product and technologies;

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our ability to attract, retain and motivate qualified personnel; and

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our ability to effectively achieve or manage our anticipated growth.

If we fail to address any of these risks and uncertainties successfully, our business, results of operations, financial condition, and cash flows may be materially adversely affected.

Competition in our target markets could reduce our sales.

We operate in a segment of the intensely competitive storage management software market. This market is characterized by rapidly changing technology and evolving standards. We have a number of competitors that vary in size and scope and breadth of products offered. Many of our competitors have greater financial resources than we do in the areas of sales, marketing, branding and product development, and we expect to face additional competition from these competitors in the future. Our current competitors include, among others, Symantec Corporation, EMC Corporation, IBM’s Tivoli division, CA Inc. and CommVault Systems, Inc. Some of these companies compete against us by offering a full suite of storage management tools, including software that addresses data protection. We also face competition from a number of smaller companies who, like us, focus solely or primarily on the data protection software market. Furthermore, our OEM partners, who do not currently compete with us, could decide to compete with us by offering their own data protection solutions that exclude our software, and other storage equipment vendors may enter our market either through acquisition of competing technologies or products, or through development of their own data protection software solutions.

Our existing and future competitors could introduce products with superior features, scalability and functionality at lower prices than our product. Most of our competitors provide broad suites of storage management software solutions and thus could gain market share by bundling existing or new data protection products with other more established storage products or by acquiring or forming strategic alliances with our other competitors. If our competitors are successful in gaining market share, our business, results of operations, financial condition and cash flows could be adversely affected.

Our future revenues depend upon continued market acceptance of our NetVault product portfolio.

We derive substantially all of our revenues from our NetVault product portfolio, and we expect this will continue for the foreseeable future. If the market does not continue to accept these products, our revenues will decline significantly, and this would negatively affect our results of operations, financial condition and cash flows. Factors that may affect the market acceptance of our NetVault products include the performance, price and total cost of ownership of our products, and the availability, functionality and price of competing products and technologies. Many of these factors are beyond our control.

We are dependent on certain key customers.

We have derived, and may continue to derive, a significant portion of our revenues from a limited number of OEM customers. If any of our largest OEM customers were to reduce purchases from us or we are unable to attract new OEM customers, our business would be adversely affected. In addition, we do not have contracts with our key customers that require such customers to make any minimum purchases from us. Therefore, we cannot be sure that these customers will continue to purchase our product at current levels, or at all. As a result, a significant customer in one period may decide not to purchase our product in a subsequent period, which would have an adverse impact on our revenues, results of operations, financial condition and cash flows. During fiscal 2007 and 2008, we had no customers that comprised more than 10% of our consolidated revenues.

We rely on indirect sales channels such as value-added resellers, distributors and OEMs, and this makes it difficult for us to predict our revenues.

We rely, and will continue to rely, on our indirect sales channel for the marketing and distribution of our products. Our agreements with value-added resellers and distributors do not contain exclusivity provisions and in most cases may be terminated by either party without cause and with limited or no notice. Many of our resellers also carry other product lines that are competitive with ours. These resellers may not give a high priority to the marketing of our products. They may give a higher priority to other products, including the products of competitors, or may decide not to continue to carry our products. In addition, we may not be able to retain our current resellers or successfully recruit new resellers. Any such changes in our distribution channels could seriously harm our business, operating results and financial condition.

Our strategy also involves developing significant partnerships with key hardware and software providers to integrate NetVault products into their offerings to support more robust data protection solutions. We may fail to implement this strategy successfully. We are currently investing, and will continue to invest, resources to develop this channel. Such investments, if not successful, could seriously harm our operating margins. Before we can sell our products to an OEM, generally we must engage in a lengthy sales cycle and develop a version of our software customized for and integrated with the hardware or software product of the OEM. This process, which can take up to 12 months or more, requires the commitment of OEM personnel and resources, and we compete with other suppliers for these resources. Any delays in completing this process or any failure to timely develop a customized and integrated version of our software for an OEM would adversely affect our ability to sell our products.

Sales of our products through our OEMs depend on the success of our OEMs in developing and effectively marketing new products, applications and product enhancements on a timely and cost-effective basis that meet changing customer needs and respond to emerging industry standards and other technological changes. Our reliance on OEMs exposes us to additional risks. If our OEMs do not meet these challenges our revenues may suffer. The OEMs we partner with may incorporate the technologies of other companies in addition to, or to the exclusion of, our technologies, and are not obligated to purchase our product from us, and they may not continue to include our products with their products. In addition, we have no control over the shipping dates or volumes of products the OEMs ship. Our OEM customers may compete with one another. If one of our OEM customers views the products we have developed for another OEM as competing with its products, it might decide to stop doing business with us, which could adversely affect our business, results of operations, financial condition and cash flows. The inability to recruit, or the loss of, important OEMs could seriously harm our business, operating results and financial condition. Finally, should one of our OEM partners create or acquire competitive products to ours, our OEM revenues would likely decline.

We may make acquisitions or investments that are not successful and that adversely affect our ongoing operations.

We have in the past and may in the future acquire and make investments in companies, products or technologies that we believe complement or expand our existing business and assist us in quickly bringing new products to market. However, we have limited experience in making acquisitions and investments. As a result, our ability to identify and evaluate prospects, complete acquisitions and properly manage the integration of businesses is relatively unproven. Failure to properly evaluate and execute acquisitions or investments may have a material adverse effect on our business, results of operations, financial condition and cash flows.

In making or attempting to make acquisitions or investments, we face a number of risks, including risks related to:

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identifying suitable candidates, performing appropriate due diligence, identifying potential liabilities and negotiating acceptable terms;

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reducing our working capital and hindering our ability to expand or maintain our business, if we make acquisitions using cash;

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the potential distraction of our management, diversion of our resources and disruption of our business;

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retaining and motivating key employees of the acquired companies;

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managing operations that are distant from our current headquarters and operation locations;

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entering into geographic markets in which we have little or no prior experience;

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competing for acquisition opportunities with competitors that are larger than we are or have greater financial and other resources than we have;

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accurately forecasting the financial impact of a transaction;

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assuming liabilities of acquired companies, including existing or potential litigation related to the operation of the business prior to the acquisition;

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maintaining good relations with the customers and suppliers of the acquired company; and

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effectively integrating acquired companies and achieving expected synergies.

In addition, any acquired businesses, products or technologies may not generate sufficient revenue and net income to offset the associated costs of such acquisitions, and such acquisitions could result in other adverse effects. Moreover, from time to time, we may enter into negotiations for the acquisition of businesses, products or technologies but be unable or unwilling to consummate the acquisitions under consideration. This could cause significant diversion of managerial attention and resources.

Failure to manage our growth could adversely affect our business.

We expect to continue to expand our operations domestically and internationally. If we fail to manage our expansion effectively, our business and operating results could be adversely affected, which could cause the market price of our stock to fall. Any expansion in our operations and staff could place a significant strain on our management systems and resources. If we fail to manage any future expansion, we may experience higher operating expenses. To manage this expansion effectively we must continue to:

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improve our financial and management controls, reporting systems and procedures;

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hire and integrate new employees;

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manage our relationship with our resellers, distributors and OEMs;

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control expenses; and

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expand geographically dispersed operations.

We may need to commit a significant amount of funds to obtain additional systems and facilities to accommodate any current and future anticipated expansion. To the extent any expansion does not occur or occurs more slowly than we expect, we may not be able to reduce expenses to the same degree. Any failure to manage our expansion effectively could adversely affect our business, results of operations, financial condition and cash flows.

Because our intellectual property is critical to the success of our business, our results of operations may suffer if we are unable to adequately protect or enforce our intellectual property rights.

Our proprietary technologies are crucial to our success and ability to compete. We rely primarily on a combination of copyrights, trade secret laws, contractual provisions and trademarks to establish and protect our intellectual property rights in our proprietary technologies. Sometimes our products are licensed under “shrink wrap” license agreements that do not require a physical signature by the end user licensee and therefore may be unenforceable under the laws of some jurisdictions. We presently have two patents issued and we continually invest resources to gain additional patent protection for our proprietary technology. We may not be issued additional patents in the future, and the benefit we may derive from any patents, if and when issued, may equal or exceed the costs of obtaining such patents.

Our general practice is to enter into confidentiality or license agreements with employees, consultants and customers and seek to control access to and distribution of our source code, documentation and other proprietary information. Despite our efforts to protect our proprietary rights, unauthorized parties may attempt to copy aspects of our product or to obtain and use information that we regard as proprietary. Policing unauthorized use of our proprietary information is difficult. Other parties also may independently develop or otherwise acquire equivalent or superior technology. In addition, the laws in some countries in which our product is or may be developed, manufactured or sold may not protect our intellectual property rights to the same extent as the laws of the United States, or at all. Our failure to protect our intellectual property rights could result in increased competition and therefore reduce our market share, which would have a material adverse effect on our business, results of operations, financial condition and cash flows.

We may become involved in costly and lengthy patent infringement or intellectual property litigation which could seriously harm our business.

In recent years, there has been significant litigation in the United States and in foreign countries involving patents and other intellectual property rights. We may become party to litigation in the future as a result of an alleged infringement of others’ intellectual property. From time to time, we receive inquiries from other companies concerning whether we used their proprietary information or technology. It also is possible that patent holders will assert patent rights which apply broadly to our industry, and that such patent rights, if valid, may apply to our product or technology. Any claims that we improperly use another party’s proprietary information or technology or that we infringe another party’s intellectual property, with or without merit, could adversely affect or delay sales of our product, result in costly and time-consuming litigation, divert our technical and management personnel, or require us to develop non-infringing technology or enter into royalty or licensing arrangements, any of which could adversely affect our business. We cannot be certain that the necessary licenses will be available or that they can be obtained on commercially reasonable terms. If we were to fail to obtain such royalty or licensing agreements in a timely manner or on reasonable terms, our business, results of operations, financial condition and cash flows could be materially adversely affected.

Our foreign operations create special challenges that could adversely affect our results of operations.

We have significant operations outside of the United States, including a significant portion of our engineering and sales operations, and we generate a significant portion of our revenues from sales outside the United States. It is our intention to expand our international operations in order to increase our revenues from sales outside the United States and to continue to take advantage of lower costs associated with software development outside the United States. As of January 23, 2009, we had 77 employees in Europe, the Middle East and Africa (“EMEA”) and 68 employees in the Asia-Pacific region out of 264 total employees. Our foreign operations and revenues are subject to a number of risks, including:

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potential loss of proprietary information due to piracy, misappropriation, or weaker intellectual property protection laws or weaker enforcement of such laws;

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imposition of foreign laws and other governmental controls, including trade restrictions, as well as the burdens of complying with a wide variety of multiple local, country and regional laws;

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unexpected domestic and international political or regulatory changes;

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fluctuations in currency exchange rates and general economic instability;

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lack of acceptance of localized products, if any, in foreign countries;

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longer negotiation and accounts receivable payment cycles;

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potentially adverse tax consequences, including restrictions on the repatriation of earnings;

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difficulties in coordinating the activities of our geographically dispersed and culturally diverse operations; and

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difficulties in ensuring that our subsidiaries maintain sufficient internal control over financial reporting in order to produce financial statements in compliance with accounting principles generally accepted in the United States (“U.S. GAAP”).

Our continued growth will require further expansion of our international operations. To expand international operations successfully, we must establish additional foreign operations, hire and retain additional personnel and recruit additional international resellers, all of which will require significant management attention and financial resources. If we fail to further expand our international operations and revenues, we may not achieve our anticipated growth.

A majority of our international business is presently conducted in currencies other than the U.S. dollar. Foreign currency transaction gains and losses arising from normal business operations are credited to or charged against earnings in the period incurred. As a result, fluctuations in the value of the currencies in which we conduct our business relative to the U.S. dollar will cause currency transaction gains and losses, which we have experienced in the past and continue to experience. Due to the substantial volatility of currency exchange rates, among other factors, we cannot predict the effect of exchange rate fluctuations upon future operating results

and we may experience currency losses. Portions of our Asia-Pacific revenues are currently denominated in U.S. dollars. As a result, an increase in the value of the U.S. dollar relative to foreign currencies could make our products more expensive and, therefore, potentially less competitive in those markets. We have not previously undertaken hedging transactions to cover currency exposure, and we do not currently intend to engage in hedging activities. As a result, our results of operations, financial condition and cash flows could be adversely affected by such exchange rate fluctuations.

Our success depends on our ability to keep pace with rapid technological developments in the storage industry.

Our future success depends, in part, on our ability to address the rapidly changing needs of organizations by developing and introducing new product updates and features on a timely basis. To achieve this objective we must extend the operation of our products to new platforms and keep pace with technological developments and emerging industry standards. To achieve broad acceptance of our software, we must obtain certifications from hardware vendors approving our software for use as a data protection solution on their platforms. This process requires continual testing and development, and we must invest significant technical resources in adapting our products to the changing hardware specifications. If we are unsuccessful in obtaining new certifications, the market for our software may be limited. Moreover, software products typically have a limited life cycle, and it is difficult to estimate when they will become obsolete. We must therefore continually develop and introduce innovative products and/or upgraded versions of our existing products before the current software has completed its life cycle. Our failure to do so may result in our inability to achieve and maintain profitability.

Our products may contain significant defects, which may result in liability and/or decreased sales.

Software products frequently contain errors or failures, especially when first introduced or when new versions are released. Despite our best efforts to test our products, we may experience significant errors or failures in our products, or software may not work with other hardware or software as expected, which could delay the development or release of new products or new versions of our products and adversely affect market acceptance of our products. End user customers use our products for applications that are critical to their businesses, and they have a greater sensitivity to product defects than the market for other software products generally. Our end users and distribution partners may claim that we are responsible for damages to the extent they are harmed by any failure of our products.

If we were to experience significant delays in the release of new products or new versions of our products, or if customers were dissatisfied with product functionality or performance, we could lose revenue or be subject to liability for service or warranty costs, and our business, results of operations, financial condition and cash flows could be adversely affected.

Our success depends on retaining key personnel, including our executive officers, and hiring and retaining other qualified employees.

Our future growth and success depends on the continued contributions of our senior management, as well as our ability to hire and retain other key engineering, sales and marketing and operations personnel as needed. If we are unable to hire and retain qualified employees, our business and operating results may be adversely affected. We need to hire and retain qualified personnel to support the planned expansion of our business and to meet the anticipated increase in customer demand for our products and services, and we may not be able to do so. All of our employees are free to terminate their employment with us at any time. Competition for people with the skills we require is intense, particularly in the San Diego area where our headquarters are located, and the high cost of living in this area makes our recruiting and compensation costs higher. As a result, we expect to continue to experience increases in compensation costs.

As a result of our delinquency in filing our periodic reports with the SEC and the cease trade orders currently in effect in certain Canadian jurisdictions, our board of directors has prohibited option holders from exercising stock options and has limited our ability to grant stock options to our employees. These circumstances could make it difficult to attract, retain and motivate employees, which could adversely affect our business, results of operations, financial condition and cash flows.

We rely upon software licensed from third parties, and if it became unavailable to us, we could be required to modify our software or to acquire a license or right to use alternative technology.

We license and use software owned by third parties in our business, some of which is incorporated into our products. These third party software licenses may not continue to be available to us on acceptable terms. Also, these third parties may from time to time receive claims that they have infringed the intellectual property rights of others, including patent and copyright infringement claims, which may affect our ability to continue licensing this software. Our inability to use any of this third party software could result in shipment delays or other disruptions in our business, which could adversely affect our business, results of operations, financial condition and cash flows.

Because we are a Canadian corporation, certain civil liabilities and judgments against us or our directors by U.S. investors may be unenforceable.

We are incorporated under the laws of Canada and some of our directors are residents of Canada. As a result, it may be difficult for our U.S.-based shareholders to initiate a lawsuit within the United States. It may also be difficult for shareholders to enforce a U.S. judgment in Canada or elsewhere or to succeed in a lawsuit in Canada or elsewhere based only on violations of U.S. securities laws.

Litigation may harm our business or otherwise distract our management.

Substantial, complex or extended litigation could cause us to incur large expenditures and distract our management. For example, we may in the future be subject to class actions, other securities litigation or other proceedings or actions arising in relation to the restatement of our prior period financial statements. Litigation and any potential regulatory proceeding or action may be time consuming, expensive and distracting from the conduct of our business, and the outcome of litigation and any potential regulatory proceeding or action is difficult to predict. The adverse resolution of any specific lawsuit or any potential regulatory proceeding or action could have a material adverse effect on our business, results of operations and financial condition. To the extent expenses incurred in connection with litigation or any potential regulatory proceeding or action (which may include substantial fees of attorneys and other professional advisers and potential obligations to indemnify officers and directors who may be parties to such actions) are not covered by available insurance, such expenses could adversely affect our business, results of operations, financial condition and cash flows.

Risks Related to Ownership of our Common Stock

Our common stock was delisted from the Over-the-Counter Bulletin Board (“OTCBB”) and Toronto Stock Exchange, and as a result, trading of our common stock has become more difficult.

Our common stock was delisted from the OTCBB in February 2005 because of our failure to keep current in filing our periodic reports with the SEC. In addition, our common stock has not traded on the TSX since December 2004, when the Canadian jurisdictions of Ontario, Alberta and British Columbia issued cease trade orders due to delays in the filing of our financial statements. Our common shares were subsequently de-listed from the TSX in May 2006. Since February 2005, trading in our common stock has been conducted on the “Pink Sheets.” Consequently, selling our common stock is more difficult because smaller quantities of shares can be bought and sold, transactions can be delayed and security analyst and news media coverage of us may be unfavorable. These factors could result in lower prices and larger spreads in the bid and ask prices for shares of our common stock as well as lower trading volume.

In addition, our stock may be defined as a “penny stock” under Rule 3a51-1 under the Exchange Act. “Penny stocks” are subject to Rule 15g-9, which imposes additional sales practice requirements on broker-dealers that sell low-priced securities to persons other than established customers and institutional accredited investors. For transactions covered by this rule, a broker-dealer must make a special suitability determination for the purchaser and have received the purchaser’s written consent to the transaction prior to sale. Consequently, the rule may affect the ability of broker-dealers to sell our common stock and affect the ability of holders to sell their shares of our common stock in the secondary market. To the extent our common stock is subject to the penny stock regulations, the market liquidity for the shares will be adversely affected.

Notwithstanding the filing of this Annual Report, we are not fully compliant with our filing requirements with the SEC, and we could be subject to sanctions by the SEC. At such time as all outstanding financial statements have been brought current, we intend to pursue listing our common shares on an established stock exchange.

Our bookings, revenues and operating results may fluctuate significantly, which could cause the market price of our stock to fall.

Our operating results have fluctuated in the past and can be expected to fluctuate from time to time in the future. We may experience a shortfall in bookings or revenues in any given quarter in relation to our plans or investor expectations. In addition, if we have a shortfall in bookings or revenues, our efforts to reduce operating expenses in response will likely lag behind such shortfall. Our revenues and bookings, and our licensing revenues and bookings in particular, are difficult to forecast and are likely to fluctuate significantly from quarter-to-quarter due to a number of factors, many of which are outside of our control. Factors that may cause fluctuations in our revenues and bookings include the following:

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timing and magnitude of sales;

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historical sales patterns in the IT industry which often involve customer purchase decisions being made at or near the end of each calendar quarter;

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timing of large enterprise transactions which are typified by long solicitation and decision periods and often remain highly uncertain until the sale is actually completed;

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introduction, timing and market acceptance of new products by us and our competitors;

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rate of growth of Network Attached Storage and Storage Area Network technology deployment;

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rate of adoption and associated growth of the Linux operating system;

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changes in our pricing policies and distribution terms;

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possibility that our customers may defer purchases in anticipation of new products or product updates by us or by our competitors; and

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changes in market demand for IT products in general.

Any deterioration in our operating results, including fluctuations based on any shortfalls in bookings or revenues, could cause the market price of our stock to fall substantially. If our operating results are below the expectations of securities analysts or investors, the market price of our common stock may fall abruptly and significantly.

Our stock price is volatile and your investment could decline in value.

Our stock price has fluctuated significantly in the past and is likely to continue to fluctuate significantly, making it difficult to resell shares when investors want to at prices they find attractive. Factors affecting the trading price of our common stock could include:

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variations in our financial results;

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our restatement of previously reported financial information and delayed filings for subsequent years;

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announcements of innovations, new solutions, strategic alliances or significant agreements by us or by our competitors;

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recruitment or departure of key personnel;

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changes in estimates of our financial results;

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changes in the recommendations of any securities analysts that elect to follow our common stock;

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market reaction to any acquisitions, joint ventures or strategic investments announced by us or our competitors;

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any significant litigation brought against us;

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market conditions in our industry, the industries of our customers and the economy as a whole; and

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sales of substantial amounts of our common stock, or the perception that substantial amounts of our common stock will be sold, by our existing stockholders in the public.

General economic, political and stock market conditions may affect the market price of our common shares, and may cause our stock price to fluctuate in ways unrelated or disproportionate to our operating performance. The stock market is subject to price and volume fluctuations that affect the market prices for companies in general, and small-capitalization, high technology companies in particular, which are often unrelated to the operating performance of these companies. In addition, in the past, securities class action litigation has been instituted against companies following periods of volatility in the market price of their securities, and we may be subject to a heightened risk of securities class action litigation and our restatement of previously published financial information.

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

None.

Item 3.

Defaults Upon Senior Securities

None.

Item 4.

Submission of Matters to a Vote of Security Holders

None.

Item 5.

Other Information

None.

Item 6.

Exhibits


Exhibit Number		Description of Document

3.1(1)		Restated Articles of Continuance of the registrant

3.2(1)		Bylaws, as amended, of the registrant

10.1(2)		Amendment to Stand-alone Restricted Stock Unit Award Agreement dated April 24, 2008, by and between registrant and Doug Lindroth

31.1		Certification of Principal Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

31.2		Certification of Principal Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

32.1		Certification of Principal Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

32.2		Certification of Principal Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

(1)	Previously filed with the SEC as an exhibit to and incorporated herein by reference from our Annual Report on Form 10-K filed on June 30, 2004.

(2)	Previously with the SEC as an exhibit to and incorporated herein by reference from our Annual Report on Form 10-K filed on August 6, 2008.

SIGNATURE

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this Quarterly Report to be signed on its behalf by the undersigned thereunto duly authorized.


				BAKBONE SOFTWARE INCORPORATED

Dated: February 2, 2009				/s/ JAMES R. JOHNSON
				James R. Johnson
				Chairman and Chief Executive Officer
				(Principal Executive Officer)

Dated: February 2, 2009				/s/ STEVEN R. MARTIN
				Steven R. Martin
				Senior Vice President and Chief Financial Officer
				(Principal Financial and Accounting Officer)

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